David Prosser discusses how investment companies can help investors to preserve their wealth in tough economic times.
Is the UK heading for recession? The Bank of England thinks so; its latest forecast is for the economy to shrink in both the final quarter of this year and the first quarter of 2023, which would put us in recession territory. And while the Bank expects a recovery thereafter, its forecasts are for very modest growth next year.
In which case, you may be wondering about the impact on your investments. In particular, tough economic times tend to be bad news for the stock market because companies struggle for profitability when the economy tanks. Maybe it is time for a change of plan.
Play the long game
The first point to make if you’re thinking about shaking up your investment strategy is that it is important to focus on the long term. Most people with savings and investments are focused on particular goals, rather than investing simply for the sake of it. Those goals might be very specific or more general – saving for children’s university costs versus building up a pot of cash for the future, say – but it is their timescale that matters.
Nothing in investment is certain, but one thing we do know is that in the past, the stock market has tended to perform better than other assets over longer periods – say five to ten years or more. If you’re investing for goals over that kind of period or longer, it therefore doesn’t make much sense to get hung up on what might happen over the next year or so.
In any case, it’s harder than you might think to see what’s coming. Recessions are associated with periods of stock market underperformance, but the link is not always obvious, and every downturn is different. For example, research from The National Bureau of Economic Research, based on the American stock market, found that the stock market has tended to perform worse in the year running up to a recession than in the recession itself; and in around half the recessions seen since 1953, share prices have actually risen over the course of the downturn.
The lessons of history are clear. First, investors who sit on their hands and focus on the long term by remaining in assets with the potential to outperform have generally been rewarded. And second, trying to second-guess how a recession will affect the stock market is fraught with difficulties.
Take the defensive approach
What if your financial goals are drawing nearer, or you’re determined to take a more cautious approach during these volatile times? Well, one option would be to move all your money into cash, via a bank or building society savings account, where you can be confident it won’t fall in value. Bear in mind, however, that this will mean losing money in real terms. The Bank of England’s forecast is for inflation to top out at above 10% over the next six months; the best savings account right now won’t pay you much more interest than 2% a year.
A better strategy might be to spread your bets. Investment professionals call this diversification: by dividing your money between different types of asset, you reduce your overall risk, because if one type of investment falls in value, another may provide some compensation.
In practice, diversification means spreading risk both within and across asset classes. If, for example, all your cash is currently invested on the UK stock market, now might be the time to look at other markets around the world, and to look beyond shares.
In fact, there are lots of opportunities beyond the stock market that investors often overlook. There is an investment case to be made for bonds, property, commodities such as gold, infrastructure and more; each one of these asset classes has the potential to provide returns that might sustain you during the difficult times ahead.
If you’re not sure where to start, an independent financial adviser could offer some valuable support. But one good option could include funds in the AIC Flexible Investment sector. These are funds where the manager has a mandate to invest across a broad range of asset classes, including many of those mentioned above, rather than following a narrow remit. They do the hard work of achieving diversification on your behalf.
In many cases, these funds are focused on wealth preservation, which could be just what you need right now. Well-known investment companies in the Flexible Investment category include Capital Gearing, Personal Assets and Ruffer, but there are more than 20 to choose from.